NOTE NUMBER 342 90760 viewpoint PUBLIC POLICY FOR THE PRIVATE SECTOR JULY 2014 Distributed Private Energy Projects This Viewpoint has been Supporting Electrification Goals in Low-Income Countries T r a d e a n d C o m p e t i t i v e n e s s G l o b a l P r a ct i c e prepared by the Investment Climate team of the World U n re l i abl e e l e c tri c i ty su ppl y h i n de rs e c on omi c growth i n l ow- i n c ome Bank Group, based upon research undertaken by c ou n tri e s. Th e pri vate se c tor c an pl ay a si gn i fi c an t rol e i n su pporti n g Economic Consulting n ati on al powe r goal s th rou gh smal l - sc al e ‘al te rn ati ve pri vate su ppl y Associates, UK. The of powe r,’ or A PS . A Worl d Ban k G rou p re port fou n d th at c e rtai n A PS authors are Alejandro Moreno and Vyjayanti mode l s may provi de th e most c ost- e ffe c ti ve way of su ppl yi n g powe r, Desai. an d i n man y c ase s prove a more prac ti c al way of i n c re asi n g ac c e ss to re l i abl e e l e c tri c i ty. Th i s n ote di sc u sse s th e mode l s of A PS , th e c on di ti on s wh e n e ac h i s appropri ate , an d th e fi n an c i al an d re gu l atory su pport th at c an attrac t i n ve stme n t for th e se proj e c ts. Considering alternative power generation competitive markets (see box 1). Nonetheless Low-quality electricity supply often hinders they can replace, at least in part, a utility’s role economic growth in low-income countries and in the retail sale of electricity for a limited set disproportionately impacts poor or marginalized of customers.1 people. Some governments view small and In most of these countries, the state dominates distributed power projects as an inefficient the power sector through a single company approach to electrification.2 Policymakers responsible for providing all power services, from often assume that these projects cannot generation to transmission and distribution, leverage the economies of scale available to THE WORLD BANK GROUP to retail sales. While opportunities for private an established utility. They may assume that investment in generation facilities are increasing, power from these projects will be expensive, many low- and middle-income countries strictly unreliable, or low-quality. In addition, there limit the private sector role in the retail supply may be a fear that certain projects will reduce and sale of power. utility revenue by selectively targeting the However, the private sector can play a most profitable customers. Experience and significant role in these countries by providing detailed analysis, however, show that under the alternative models of supplying power, referred right circumstances, APS of varying types can to as alternative private supply of power, or APS. provide reliable back-up power, deliver power APS projects are small-scale and decentralized, to under-served areas, and provide utilities and distinguishing them from private utilities in fully customers with lower-cost sources of power. D istributed pri v ate energy projects S u p p o r t i n g E l e ct r i f i c a t i o n G o a l s i n L o w - I n c o m e C o u n t r i e s Box APS versus competitive power markets 1 In the competitive power markets seen in Europe and much of the Americas, multiple private utilities compete with each other (and sometimes with state-owned or controlled utilities) to supply power directly to customers. The goal of competition is to provide incentives to reduce long-term power costs and align services with customer needs. Competition in power, however, typically requires a total reform of the sector and unbundling of services along the supply chain, and functions best in countries with excess supply and the technical capacity to operate a sophisticated power market. In contrast, APS models are limited in scope, directly address a shortage or absence of supply, and can be implemented with a small number of targeted policies or regulations. 2 Value of APS of the APS models is likely to be most effective, The World Bank Group’s Investment Climate describes primary commercial drivers for each, Department recently published a report, “The and examines conditions for commercially Potential for Alternative Private Supply of Power viability, with or without subsidies. The final in Developing Countries,” assessing the value section details key policy and regulatory measures and financial viability of the most common that can facilitate their development. APS projects in developing countries. Models considered as APS include the sale of surplus Captive power power to the grid from industrial-scale captive power (self-generation), direct private sales from Context and drivers generators to a limited set of customers, privately- Captive power from industrial facilities can provide operated stand-alone mini-grids, and the supply a valuable source of additional power to the main of individual power units such as solar home grid – especially when the cost of generation is systems or power boxes. less than the main grid’s generation costs. This The report, which analyzed a series of case case is particularly likely when the facility has studies in Africa, South Asia, and East Asia, found reliable access to a low-cost renewable fuel source, that each of the APS models can, under the right such as agricultural waste, or when a byproduct circumstances, bet he most economically valuable of power generation can serve as an input into and cost-effective approach to supplying power. the firm’s industrial process (co-generation). In Captive power and direct private-to-private sales countries with supply shortages, however, captive can reduce the overall cost of power, while mini- power projects are typically developed to provide grids and individual power units can provide backup generation when power from the utility is the lowest-cost energy supply for populations in intermittent. Even when captive generation costs particularly remote areas. more than utility’s cost of power, it can provide Even when they are not the most cost-effective a much needed and economically viable source approach, APS projects still warrant serious of reserve capacity to increase the reliability of consideration by policy-makers. Reliable, grid- power supply. The Maharashtra state utility in connected networks, though economically Pune, India3, asked a series of industrial captive preferable, are unlikely to be operational in power plants to supply surplus power to the the short- to medium-term in many developing national grid during high-demand periods. Power regions. In such circumstances, APS models from the diesel-fired plants may have been more can provide an effective solution that reduces expensive than grid power in the city. But the total the burden of power shortages or replaces cost of the power to the local community was still expensive, inefficient fuel sources such as candles less than the cost of power outages that might or kerosene. In these cases, an APS project need have otherwise occurred. The popularity of captive only be more cost-effective—or provide more power plants worldwide attests to the willingness economic value—than the existing energy supply of a wide range of commercial customers to pay to be the best solution. more for a guaranteed supply of electricity. Each APS model is substantially different in form and purpose, addressing different Commercial viability weaknesses in the utility system, and is appropriate Captive plants that can generate power for less only under the right set of circumstances. The than the average cost of power purchased by the section below outlines the context in which each utility should be able to sell their surplus power to the grid without any external financial support. a customer to pay a higher tariff to ensure a Others, including those that might be able to reliable supply of power. The timing and size of provide much needed generation capacity to the demand will determine whether the revenue the national grid, may only be able to do so— is sufficient to make the transaction appealing or be sized to provide maximum benefit—with for the supplier. In order to work, suppliers must an assurance of financial support. In the Pune be allowed to set their own tariffs. Direct private case mentioned above, the captive generators sales arrangements can theoretically benefit all received subsidies paid for by end-consumers to parties involved. In Zimbabwe, private generators cover the additional generation costs. can sell power at a profit; their customers get reliable power for less than the cost of running Direct private sales a backup generator; the utility charges a margin on each unit of power sold; and the arrangement Context and drivers attracts additional generation capacity to the Traditionally, direct private sales between national grid.7 power suppliers and consumers have been seen as the first step towards a competitive Mini-grids and individual power units market.4The opportunity for customers to benefit from private-sector efficiency and Context and drivers receive power at lower prices drives these sales. Stand-alone mini-grids can serve certain areas Like captive power, direct private sales can more cost-effectively than extending the national lower the average cost of power in a country grid. But mini-grids are particularly appropriate if the cost of private generation is below that when: of the utility. In countries with frequent power n They serve concentrated populations far from outages, purchasing electricity directly from an existing grid, such as remote provincial a private supplier may help a large consumer capitals or commercial centers. reduce costly interruptions in power supply for n There is a readily available source of renewable less than the cost of alternatives (for example, energy, making local power generation more the consumer running a backup generator or competitive. sustaining an interruption in production). A n The terrain between the population and the direct power sale arrangement usually requires a main grid is difficult, increasing the cost of direct connection between the buyer and seller grid connections. to circumvent the unreliable grid. n Demand is insufficient to justify the expense In Zimbabwe, an ad hoc arrangement between of expanding the grid—even if the resulting the utility, private generators and select large power would be less expensive and more customers allows private plants to sell directly to reliable than mini-grid or individual power end users at rates above the national tariff. Despite alternatives. higher average costs, the improved reliability is In particularly low-income or scattered worth the expense to the participating customers, populations, the supply of individual power units who bear the entire cost burden.5 may be more economic even than mini-grids as In many low-income countries, the private the infrastructure costs are substantially lower. sector is reluctant to invest in new power generation because the utility purchasing the Commercial viability power has a poor track record of paying its bills Mini-grids: Mini-grids often require some degree on time. The option to sell directly to a large of subsidy to operate profitably, at least at the industrial customer, or any reliable private initial stages of development. The per-unit company, reduces risk for a developer and their cost of mini-grid power almost always exceeds investors and enhances the revenue security that of a nationwide utility. Mini-grids require required to finance the project.6 infrastructure similar to a traditional grid’s but usually serve small, low-income populations in Commercial viability remote locations or other customers that are a Direct private sales are often commercially lower priority for the primary utility.8 Operators viable, as they arise from the willingness of limited to charging the same uniform national tariff as the state utility will rarely be able to units, for example, OMC Power in India, have recover their costs without subsidy. Mini-grids developed business plans that do not depend can be commercially viable without subsidies, on subsidies at all. however, if operators are allowed to charge tariffs that reflect the full cost of service, as demonstrated Policy implications for facilitating APS by the success of private mini-grids in countries development such as Cambodia.9 Fully cost-reflective tariffs, With or without subsidies, all forms of APS however, may render the service unaffordable to require a supportive regulatory and policy many potential customers and can be politically environment to be commercially viable. The 4 difficult to maintain when customers of the state specific regulatory needs are different for utility pay much less.10 each type of APS model and vary depending Individual power units: Individual units such on country context, but all models require a as solar home systems and lanterns may also regulatory regime that provides a clear legal require a certain degree of up-front subsidy. basis for operations, defines operator rights, and They, too, tend to serve remote, low-income enables investors to estimate costs and revenue. populations. Unlike mini-grids, however, they Policies that support access to credit markets and require less infrastructure investment and business development services may help ensure the prices and payment schedules for such long-term viability of the projects. On a larger devices are rarely regulated, making it easier for scale, policies that encourage competition in the operators to recover their costs. With aggressive energy market may spur cost efficiencies among consumer financing, individual units can be APS service providers, with savings passed on to offered at payments below what consumers customers.12 were previously spending on kerosene or Sector law for captive power must legalize batteries. Analysis of World Bank-supported the sale of surplus power to the grid. Secondary programs to distribute solar home systems regulations that set the price and terms under in Bangladesh and Mongolia, for example, which the utility pays for the electricity, for indicates that commercial markets established example through feed-in tariffs or net metering, with targeted subsidies can sustain themselves can be critical support mechanisms. over time with a reduction or elimination of Allowing select customers to choose their the subsidies.11 Other suppliers of individual supplier is the key regulatory challenge to Table Supportive Policies and Regulations for APS 1 Clear legal basis for operation Captive power ü Direct APS model private sales ü ü Minigrids Individual power units ü Legally defined operators’ rights ü ü ü ü Policies that support access to credit markets ü ü ü ü Legalized private power sales to grid ü Feed-in tariffs regulations ü Net metering regulations ü Legalized private power supply / choice of providers ü Eligible customer regulations ü Transmission tariffs ü Cross-subsidy surcharges ü Cost-recovery tariffs ü ü ü Legal right to collect bills and disconnect customers ü ü ü Standards for system design and quality of service ü ü ü Streamlined project permitting ü ü ü ü Clear protocol for eventual connection with the main grid. ü ü Tax and duty regimes that provide favorable access to key components. ü ü ü ü direct private sales—many countries restrict have significant room for growth, with many power purchases to a single utility, usually state- still facing regulatory barriers that limit controlled. Additional regulations, including substantial opportunities for scaling up and eligibility requirements, transmission tariffs, replication. technical standards, and cross-subsidy surcharges may be required depending on the type of arrangement. For mini-grids, the most critical policy decision Notes 5 is whether to require operators to apply the 1. Industrial captive power plants that sell surplus to uniform national tariff, if there is one, or to allow the grid share many of the characteristics of traditional them to set tariffs sufficient to recover costs. The small power producers, but they are considered APS for regulatory framework should provide clear legal the purposes of this study as they replace the generating rights to collect bills or disconnect customers firm’s own power purchases with self-generation. for non-payment. It should set standards for 2. Opportunities and Challenges for Small Scale Private system design and quality of service, provide for Service Providers in Electricity and Water Supply Evidence streamlined project permitting, and establish from Bangladesh, Cambodia, Kenya, and the Philippines, the clear protocol for eventual connection to the World Bank/PPIAF, 2009, p2. main grid. 3. The Potential for Alternative Private Supply of Power in The sale of power or lighting devices typically Developing Countries. World Bank. 2014. [hereinafter requires less regulatory support, as it is often “WBG APS Report”]. treated more like the purchase of an appliance 4. Although some countries have looked to bilateral than of electricity. Nevertheless, certain systems contracting as an alternative to traditional wholesale may benefit from net metering regulations, markets where all generators are required to sell into a well-defined quality standards, and tax and duty power pool. regimes that provide favorable access to key 5. WBG APS Report components. 6. WBG APS Report 7. WBG APS Report Conclusion 8. The exception being when the primary utility has The findings of the recent World Bank Group failed to serve even large population centers and the report, “The Potential for Alternative Private private sector can step in to profitably fill the gap. In Supply of Power in Developing Countries,” this case, however, the distinction between a mini-grid discussed in this note, support the case that APS and simply a privately-operated large grid becomes projects have an important role to play in helping blurred. meet national power and electrification goals. 9. WBG APS Report APS projects provide essential services in areas WBG APS Report 10. that utilities are unable or unwilling to serve, WBG APS Report 11. including remote and low-income communities. Opportunities and Challenges for Small Scale Private 12. Supporting the development and viability of Service Providers in Electricity and Water Supply Evidence such projects can be an important step toward from Bangladesh, Cambodia, Kenya, and the Philippines, the ensuring that poor populations have access to World Bank/PPIAF, 2009, p3. these essential services.This note seeks to provide policymakers with information when evaluating potential APS projects within the context of national power objectives. Certain APS models, such as captive power and coordinated power supply, have already proved their value. Others, such as mini-grids and direct private supply, are still uncommon in most developing countries. All of the models D istributed pri v ate energy projects S u p p o r t i n g E l e ct r i f i c a t i o n G o a l s i n L o w - I n c o m e C o u n t r i e s viewpoint is an open forum to encourage dissemination of public policy innovations for private sector–led and market-based solutions for development. The views published are those of the authors and should not be attributed to the World Bank or any other affiliated organizations. Nor do any of the conclusions represent official policy of the World Bank or of its Executive Directors or the countries they represent. To order additional copies contact Jenny Datoo, managing editor, Room F 5P-504, The World Bank, 1818 H Street, NW, Washington, DC 20433. Telephone: 001 202 473 6649 Email: jdatoo@worldbank.org Produced by Carol Siegel Printed on recycled paper This Note is available online: http://www.worldbank.org/fpd/publicpolicyjournal